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Goldman Is Fighting a New Abacus Battle With an Angry Hedge Fund

Financial types will recall that in the wake of the 2008 crisis, a synthetic CDO by the name of Abacus became a poster-child of irresponsible Wall Street behavior. Regulators ended up slapping Goldman Sachs with a then-unprecedented fine of $550 million.

Now, another member of the same family of collateralized debt obligations is posing a fresh headache for the firm. There’s an angry hedge fund in one corner, and the Wall Street giant in the other. They are brawling over a technical provision with the dispute centered over almost $200 million in gains.

It’s an “obscure” provision if you ask Goldman Sachs, while hedge fund Astra Asset Management contends the bank is being “unjustly enriched by the fruits of its misconduct.”

And while allegations don’t come close to the issues Goldman Sachs faced with the SEC back in 2010, when it comes to making the extra buck, every little provision will get magnified as seen in the back-and-forth spelled out in a pair of petitions at state court in Minnesota.

Marc Kasowitz, who last year led President Donald Trump’s legal team for the special counsel, is representing Astra. Its petition to the court includes allegations Goldman Sachs pressured law firm Jones Day to withdraw an opinion it wrote on the hedge fund’s behalf. Astra said it also believes the bank was responsible for the abrupt resignation of a Jones Day lawyer who wrote it.

Representatives for Goldman Sachs Group Inc. and Jones Day didn’t comment on that situation.

But mostly, the dispute feels like the post-crisis era is playing out again, albeit in Minnesota. On Monday, a judge held the first hearing and tentatively set the case for trial next year.

In the Abacus case that led to a regulatory fine, Goldman Sachs was accused of cheating investors by failing to disclose that a hedge-fund firm betting against them had played a role in creating what they bought. The bank admitted it made a “mistake” in marketing materials and settled with the Securities and Exchange Commission.

The Abacus deal at the center of Astra’s lawsuit was actually created a year before the deal the SEC faulted.

It was structured as a wager on a portfolio of commercial mortgage-backed securities. Put simply: If the CMBS soured, Goldman Sachs would make money. But if the bundle performed just fine, the premiums that Goldman Sachs paid to protect against a default would ultimately get passed to investors like Astra.

Collateral Pool

When investors initially bought into the deal, the proceeds were spent building a portfolio of collateral. When mortgages defaulted or bonds were written down, some of the collateral would be liquidated to repay Goldman. Those payouts reduced the value of the CDO, cutting into the interest and principal payments that investors received.

But under certain conditions, Goldman Sachs could add new securities to the collateral pool -- when it gets excess proceeds from liquidation or when collateral gets redeemed.

Astra alleges the bank instructed Abacus to add 37 too-risky securities to the pool, like a slice of student loan-backed bonds that would be among the first to take losses in a default. If the bonds did well, Goldman could pocket the gain without passing it on to investors. If they did poorly, the risk was assumed by the noteholders, according to Astra’s filing.

About $94 million of the original $543 million of the CDO is outstanding. But because of the gains on the collateral Goldman Sachs added to the pool, the bank stands to collect roughly $70 million, according to Astra’s petition. The hedge fund’s filing alleges the bank already has reaped more than $120 million since 2013 after breaching the terms of the CDO -- for a total of almost $200 million. Astra wants the deal terminated and investor losses reversed.

The CDO’s trustee has been caught in the crossfire and asked the court to help solve the dispute. Meanwhile, Goldman Sachs insists there was no breach, characterizing the case as an attempt by a distressed-debt hedge fund to liquidate a product that’s doing fine.

The Abacus deal “has been performing exactly as set forth under the transaction documents for 12 years, and is expected to continue to do so for the foreseeable future,” the bank wrote in its petition. The hedge fund’s demand “would be contrary to the procedures set forth in the indenture and would result in a massive windfall for Astra.”